In Delgado v. Ctr. on Children, Inc., No. 10-2753 (E.D. La. July 13, 2012), the court granted the defendants’ motion for summary judgment, finding that the two notes issued by one of the defendants, Center on Children (“the Center”), were securities and that the plaintiffs’ claims were time-barred under both federal and state securities law.

The plaintiffs, LaDonna and Rich Delgado (“Plaintiffs”) held two notes (“Notes”) issued by the Center. The Center issued the first note in April of 2004 for $20,000.00 at 8.5 percent interest compounded annually, and it issued the second note in May of 2006 for $25,000.00 at 8.5 percent interest compounded annually. The defendants were the Center, its former president Donald Allison, former board member Kenneth Mills, and the Mid-Atlantic District Church of the Nazarene (“the Church”) of which Mr. Mills is the superintendent (“collectively Defendants”). As the Center is no longer in existence, Plaintiffs claimed that Mr. Mills and the Church were responsible for the Center’s debts.

To address the issue of Plaintiffs’ claims in relation to the relevant statutes of limitations, the court first determined whether or not the Notes were securities. The court applied the test delineated by the United States Supreme Court in Reves v. Ernst & Young, which differentiated “notes based on whether the notes are issued in an investment context (which are ‘securities’) from notes issued in a commercial or consumer context.” This test presumes that all notes are securities, but allows this presumption to be rebutted when the note in question can be shown to resemble a “family” of instruments that are not considered securities. If the note does not closely resemble one of these listed instruments, the fact finder must then “evaluate four factors to determine whether the note is in a class that should be added to the list” of instruments that are not considered securities.

These four factors are: “(1) the motivations that would prompt a reasonable buyer and seller to enter into [the transaction]; (2) the ‘plan of distribution’ of the note to determine whether it is a note for which ‘common trading for speculation or investment’ exists; (3) the reasonable expectations of the investing public; and (4) the existence of another regulatory scheme which would reduce risks related to the note and make application of securities law unnecessary.” The court determined that the Notes did not fit into any of the enumerated exceptions and proceeded to apply the test.

The court found that factors 1, 3, and 4 weighed in favor of the Notes being classified as securities, while factor 2 did not. As the Reves test is a balancing test, the court ruled that the Notes were considered to be securities under federal law. Since both Maryland and Louisiana utilize the Reves test, the court determined that the Notes were securities under state law as well. Defendants argued that the Notes were unregistered, and Plaintiffs did not contest this fact. After checking the Security and Exchange Commission’s online database and finding no filings by the Center, the court held that the Notes were unregistered securities.

The court then addressed the federal and state statutes of limitations.  Section 13 of the 1933 Act reads, “an action based upon the sale of an unregistered security must be filed ‘[w]ithin one year after the discovery of the untrue statement or the omission, or after such discovery should have been made by the exercise of reasonable diligence’… In no event, however, may suit be filed more than three years after the sale or public offering of the security.” Maryland’s blue sky laws contain the same time restrictions as the federal statute, and Louisiana’s, while similar, actually shorten the period to two years. The Center issued one note in 2004 and the other in 2006, and Plaintiffs did not commence the action until 2010; therefore, the court ruled that the claims were barred under federal securities law, Maryland’s securities law, and Louisiana’s securities law. The court dismissed Plaintiffs’ claims with prejudice.

The primary materials for this case may be found on the DU Corporate Governance website.